June 29, 2010
A Tale of Two Travelers
The past two weeks were spent traveling in Europe, and with the specter of the volcano-that-cannot-be-named potentially disrupting travel plans, I was reminded of how important flexibility is in travel just like it is in investing.
I’ve often thought that managing your money is a little like driving you around in a limo.
The way some advisers do it, they put a lot of effort into planning your trip, picking the route, average speed needed to reach your destination on time, even the traffic lane to be used. This became “the plan”.
Once these decisions are made and the trip begins, plans never change. The management becomes passive. Just stick to the plan. Even if they see a traffic accident directly ahead, passive managers rigidly continue on in the same lane at the same speed, sticking to “the plan”. Despite knowing there is trouble ahead, they feel powerless to stop because stopping is not in the plan. And when they pile on and become part of the crash, they take your money with them.
That passive style of investing worked OK in the 80’s and 90’s because markets were smoother and there were very few “accidents” along the way.
Managers more in tune with reality know that a limo is a pretty flexible vehicle, capable of doing a lot to keep you safe while moving you comfortably toward your destination.
If we see a problem ahead, we know we have brakes we can tap (sell off an investment that stops working) and a steering wheel with which to avoid problems (buy a different investment altogether). We can even pull off and take a different road altogether (buy bonds or gold instead of stocks).
This is the essence of active investment management. I respond to the changing conditions around us.
In this era of start and stop markets with frequent market crashes, which investment style do you think will serve you best?
Once you have thought that over, I hope you will decide to sit back and leave the driving to us. And please, tell your friends.
My recent trip to England, Scotland and Norway, with my brother’s family joining ours, was wonderful, with clear weather and not one volcanic eruption.
We got lucky when we went to see the changing of the guards at Buckingham Palace, as it turned out to be the Queen’s birthday – a big deal over there. She even waved at us from her carriage as she drove by in the parade. Ok, I was in a big crowd of people, but hey, she waved!
Edinburgh and the history there was my favorite part of the trip. The people of the windswept Orkney Islands were the friendliest anywhere, and we got to enjoy a magical evening of music in the beautiful red sandstone St. Magnus Cathedral in Kirkwall.
Bergen, Norway gets my vote for the most beautiful city I have ever seen. But the roads in Norway are crazy-narrow and winding. At least I was back to driving on the right side of the road when I had to dodge big trucks, fearing for the sides of my rental car.
And yes, I ate haggis which was really not bad at all. I even tried haggis potato crisps which weren’t much different than chips we get here. But I drew the line at trying the haggis nachos we saw advertized, and thoroughly dodged the lutefisk in Norway, thank Goodness.
All in all it was a great trip, but I’m really glad to be home again.
Q: In a marble hall white as milk
Lined with skin as soft as silk
Within a fountain crystal-clear
A golden apple doth appear.
No doors there are to this stronghold,
Yet thieves break in to steal its gold.
A: An egg
Roth Conversion Update
My last newsletter contained an article on converting traditional IRAs to Roth IRAs, taking advantage of some tax angles that expire at the end of this year.
After reading my article, Neil Levin, who runs the Tilson Financial Group in Lakewood Ranch, FL, pointed out some wrinkles in the payment of tax on the conversion amount that you should also know if you decide to convert your IRA.
If you opt to pay half of your taxes in 2011 and half in 2012, you will pay tax at the rate in effect for you in each of those years, not the tax rates in effect for 2010.
Payments in 2011 and 2012 is the default option if you convert in 2010 and decide not to pay the taxes in 2010. You must specifically elect to pay all taxes in 2010 if that is what you want to do.
One other point is that you can’t choose to pay some taxes in 2010 and the rest in 2011-12. It is all in 2010 or half in 2011 and half in 2012.
Of course, the risk of putting off paying the taxes until 2011-12 is the uncertainty of the tax rates for you in those years. If they go up, the Roth conversion benefits are reduced.
Sometimes I think our government has trouble keeping things simple. Check with your tax preparer for the details on converting an IRA to a Roth.
A Stock Market Replay of 2004?
The S&P 500** stock index closed Friday at 1076, right about where it was 9 months ago, in September 2009. Those who stayed invested in stocks during that time have taken a lot of risk with little reward.
In my December 15, 2009 newsletter I discussed how the stock market had a strong rally in 2003 only to go flat and make no gains at all for 10 months in 2004. I raised the possibility that after many zigs and zags, this market could end up with no gains this year, in a replay of 2004.
That appears to be what is happening now.
Since we are 9 months into the replay does that mean that it is about over? Not necessarily.
Currently, there are signs that the market is overdue for a rally, but if it happens, I doubt it will be a big one like last year. The economic recovery appears to be faltering, the world debit crisis is waiting for the next shoe to drop, and we are about to see the often nasty off-year elections unfold. They have a reputation of being hard on the markets.
The bond markets are also signaling weakness in the economy with interest rates still drifting down. If business was really as good as the government and the Wall Street cheerleaders would have us believe, interest rates would be rising, not falling.
I do expect some market strength in the next month or two, but I also think that between now and year-end there will be more money made shorting the market, using investments that go up when the market goes down, than through traditional investing.
The market has neither decisively broken down nor started a rally that looks sustainable. So for now, patience is the word of the day.
What We Were Saying Back Then.
From my June 30, 2008 Newsletter:
“For pro-active investors, recessions and stock market declines are not a time for despair because they provide the opportunity upon which outsized returns are built. At the end of a bear market environment there will be a chance to make strong gains without much risk. The key is to come through the difficult times with your investment capital intact so that you are ready when the opportunity presents itself.
“In any event, the [market’s] rise is over for now.”
Back to the present: At that writing, the stock market had already dropped 20%, and it proceeded to lose another 46.14% between then and the March 9, 2009 market bottom. We dodged most of that loss by having our accounts positioned conservatively well before the June 30th writing, setting us up for a strong year in 2009.
If we get a nasty patch in the markets this fall, as some of my work suggests, I will look on it not as a problem, but an opportunity to set us up for even more strong returns in the future.
What’s Going On In Your Portfolio?
Although I made a few trades while traveling, keeping the majority of your money out of the market over the past few weeks has been a good move. The major U.S. stock indexes were down 3.7% for the week ending June 25th, while your accounts were largely unchanged. This shows the value of my risk management style of investing.
Although I have recently added positions in high yield bonds and in Chinese stocks, we still maintain over 40% in cash in the Careful Growth* model accounts. Other holdings include gold or gold mining stocks and a couple of individual stocks that refuse to decline significantly despite the softness in the market as a whole.
Flexible Income* accounts hold about 60% in cash, with high yield bonds, a currency fund and gold (essentially another currency) making up the balance.
This newsletter has evolved into a very effective mechanism to keep you abreast of what is happening in the markets and your accounts, but there is no substitute for getting eye ball to eye ball when talking about your money.
I am not a stickler for frequent account reviews like many commissioned brokers are (they have to meet with you to sell you on the next great idea), so I won’t call and bug you, I just take care of things as best I can so you don’t have to worry about where your money is.
However, it is important that we meet occasionally, especially if your financial circumstances or goals may be changing.
Please feel free to call anytime to schedule an account review at your convenience.
Just Let Me Know:
As a client of mine you may know me as an investment manager, but I have years of related experiences to draw upon. Just let me know if there is anything else I can help you with. Membership has its privileges, you know. The only thing I ask in return is that if you have any friends that could use my services, please think of me. I’ll treat them just the way I have treated you. That is the way I do business.
* The model accounts mentioned in this article are hypothetical examples of how the strategy may work as designed. Activity in client accounts may be different from that in the model in amount of each investment, specific timing of trades, and actual security used, which may vary from account to account. Not all trades are profitable. It should not be assumed that current or future holdings will be profitable. A list of all trades in these accounts for the past 12 months will be provided upon written request.
** The S&P 500 and Nasdaq Indexes are unmanaged lists of stocks considered representative of the broad stock market. Investors cannot invest directly in the S&P 500 Index.
Balanced Strategy Description and Performance Information
Careful Growth Strategy Description and Performance Information
Flexible Income Strategy Description and Performance Information
This newsletter may contain forward-looking statements, including, but not limited to, statements as to future events that involve various risks and uncertainties. Forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause actual events or results to differ materially from those that were forecasted. Information in this newsletter may be derived from sources deemed to be reliable, however we cannot guarantee its accuracy. Please discuss any legal or tax matters with your advisors in those areas. Neither the information presented nor any opinions expressed herein constitute a solicitation for the purchase or sale of any security.